A Fresh Look at Stock Market Sentiment

I recently took a look at changes in the number of shares outstanding of the SPY ETF as a sentiment measure.  When traders are bullish, shares are created in the ETF; when they are bearish, shares are redeemed.  This is a useful sentiment gauge, because it reflects what traders are actually doing in the market, not just their stated sentiment.  

What is interesting is that we have seen considerable share redemption in SPY since the end of the year.  Indeed, shares outstanding are down on a 5, 10, and 20-day basis.  Since 2012, we've had 23 non-overlapping periods of such share redemption.  Ten days later, SPY was up 18 times, down 5 for an average gain of 1.18%, compared with an average 10-day gain of .43% for all other occasions during that period.

Although we are not so far from all-time highs in SPY and have bounced well off recent lows, bearishness on this measure continues.  Interestingly, the put/call ratio for all listed U.S. equities has been above .90 for the last two trading sessions, also above average.  

As noted yesterday, I have concerns about the longer-term pattern of breadth among U.S. stocks.  One reason for tracking different market measures is that we can avoid confirmation bias by observing when things are not lining up.  Right now, sentiment is not lining up with a picture of a topping market.  There are times when flexibility is as important as conviction:  a big edge in markets is retaining the option of not trading and waiting for clarity before placing bets.

Further Reading:  Options-Based Sentiment
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